International Fisher Effect - IFE
Definition of 'International Fisher Effect - IFE'
An economic theory that states that an expected change in the current exchange rate between any two currencies is approximately equivalent to the difference between the two countries' nominal interest rates for that time.
"E" represents the % change in the exchange rate
"i1" represents country A's interest rate
"i2" represents country B's interest rate
Investopedia explains 'International Fisher Effect - IFE'
For example, if country A's interest rate is 10% and country B's interest rate is 5%, country B's currency should appreciate roughly 5% compared to country A's currency.
The rational for the IFE is that a country with a higher interest rate will also tend to have a higher inflation rate. This increased amount of inflation should cause the currency in the country with the high interest rate to depreciate against a country with lower interest rates.